Mumbai, Feb. 2 -- Finance minister Arun Jaitley's announcement of a conservative fiscal deficit target for 2017-18 and the low net market borrowing figure translate into a higher chance of a rate cut by the Reserve Bank of India (RBI) when the monetary policy committee meets to review policy next week, economists said.
In his budget speech, Jaitley said India's fiscal deficit target will be limited to 3.2% for the year ending March 2018, belying popular expectation that the government would go for an expansionary budget to address concerns that demonetisation will hit economic growth.
In a report on Thursday, Bank of America Merrill Lynch supported the expectation of a 25 basis points (bps) rate cut on 8 February.
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"Banks have already cut MCLRs (marginal cost of funds based lending rate) after PM Modi's December 31 speech. A RBI rate cut should translate into average lending rate cuts in the April-September 'slack' industrial season," Indranil Sengupta, India economist at Bank of America Merrill Lynch, said.
It "will be an extremely close call. The 3.2% fiscal deficit figure was a positive surprise" said S.K. Ghosh, chief economist at State Bank of India.
Still, easing consumer price inflation, an increased bank deposit base and easy liquidity should also help in bringing down bond yields, which may in fact result in a lowering of interest rates without necessarily a policy rate cut, said others.
"Given that economic conditions still remain very uncertain, it is likely that the central bank will defer a decision on a rate cut till April. Although the budget was conservative, global risks are still evolving, commodity prices remain high, core inflation remains sticky, the first forecasts of monsoon will be released, among other things," said Saugata Bhattacharya, chief economist, Axis Bank Ltd.
Retail inflation decelerated to a two-year low of 3.41% in December compared to 3.63% the previous month as vegetable prices continued to contract.
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RBI is targeting keeping retail inflation under 5% in the fourth quarter and 4% within a band of 2% on either side in the medium term.
While announcing the last monetary policy on 7 December, the central bank said that while a drop in vegetable prices might bring down overall retail inflation, downward inflexibility in inflation excluding food and fuel could set a resistance level for future downward movements in the headline inflation number.
The government also announced its intent to buy back about Rs75,000 crore worth of government bonds from the market in the new year, pumping in some easy liquidity.
"It's evident that the government wants to push the yield down, as they would like to borrow long at a good rate in the new year. By buying back bonds, they can ensure an under supply of government securities, leading to an increase in price," a bond trader said on conditions of anonymity.
Bond yields and prices move in the opposite directions.
But others are skeptical about the government borrowing number, which is on the basis of small savings mobilisation of Rs1 trillion.
"This is a very high figure if you look at the average levels of small savings in the last five years. If the net borrowing figure breaches the Rs3.48 trillion that the government has predicted, then it could result in hardening of yields later. However, we are still factoring in a 25 bps rate cut," said Ghosh of SBI.